To understand just how much the housing market changed over this past year, consider this: as recently as February 2022, month-over-month home prices appreciated 1.9%, and they rose by 2.1% in March 2022, the two strongest months on record. Then appreciation rates slowed to 1.7% in April, 1.3% in May, and 0.2% in June. Starting in July, prices fell 0.5%, in August they declined 0.9%, and in September they dipped 0.7%. The housing market went from scorching hot to stone cold in six months. We see the slowing in both new home construction and existing home sales. Of course, the overarching cause of the slowing is that thirty-year fixed mortgage rates literally doubled over the course of 2022, from roughly three percent in early 2022 to over six percent in late 2022, with a short period in late October and early November where rates were over seven percent.
The combination of high home prices and high interest rates have shifted many potential buyers from the ownership to the rental market. We’ve also seen slowing in the home improvement/home renovation market as rates on home equity lines of credit increase and home price appreciation slowed or started to decline, and the refinance market has ground to a virtual standstill. The multifamily and rental markets remain fairly strong but are also subject to some slowing as rates continue to rise, and in some areas new apartment construction may be reaching the saturation level. Again, it’s important to remember that this slowing is the goal of tighter Fed monetary policy, not some unintended consequence, and is intentionally designed to slow down inflation by dampening demand.
In terms of existing home prices, the most important story to watch is housing inventory. At the national level, we have a bit more than three months of inventory on the market, which is still well below the commonly accepted healthy level of about five to six months, and that is why prices have stayed at historically high levels. If inventory levels start to rise suddenly, that could be a sign of trouble, but most experts don’t see that as likely, mainly because of the mortgage “lock-in” phenomenon. The vast majority of homeowners with a mortgage have a fixed-rate mortgage that is well below current market rates, making it highly unlikely that they will sell or upgrade by choice. Moreover, the job market remains surprisingly strong, and most homeowners are flush with equity that they accumulated over the last several years in the skyrocketing housing market, making a wave of foreclosures or forced sales unlikely. Finally, the top-to-bottom redesign of the home mortgage market resulting from Dodd-Frank and regulatory updates culminated in substantially tighter credit underwriting standards. It would now take a 40%-45% decline in home prices to cause damage comparable to the 2006-2009 Housing Bust, and even back then, the average price decline was 28%.
In terms of new home construction, on the single-family side, activity has already slowed significantly in response to higher rates and recession fears. A combination of higher borrowing costs for multifamily developers and declining rents will undoubtedly start to slow apartment and condo construction. In fact, the most recent quarterly survey of apartment market conditions done by the National Multi-Housing Council showed the index has declined from a spectacular 95 to just 20, one of the weakest readings in decades, over a 15-month period.
In summary, in terms of a forecast for the housing market in 2023, I think we will start to see improvement toward the end of 2023 if inflation continues to slow to the point where the Fed can begin signaling a true pivot to lower rates. Home prices may well decline for several more months, but it’s hard to see the declines going much longer and should be relatively shallow, perhaps an additional four to five percentage points.